The Dow Jones Industrials (^DJI 0.09%) managed to eke out some gains on Wednesday morning, recovering from early declines, but not quite making up enough ground to set a new all-time record high. Mixed economic data continued to leave investors uncertain about whether the bull market will continue, or whether a long-awaited correction will finally materialize, limiting the Dow's gains to about 15 points on Wednesday. But within the Dow, Travelers (TRV 0.28%) led the way higher, as favorable sentiment for insurance companies also helped pull AIG (AIG -0.32%) higher.
Insurance companies in the property and casualty space have had a great couple of years in 2013 and 2014, as a lack of major catastrophic losses has helped bolster their bottom lines after some terrible loss experience in the years before that. For Travelers, which survived the financial crisis reasonably well, the favorable climate has helped boost its earnings growth substantially. For AIG, which obviously took a much bigger blow, the improving conditions in the insurance industry have validated the company's core strategy of divesting non-core businesses to focus largely on the property-and-casualty segment.
Source: Travelers.
As a result of the jump in earnings in the industry, insurance stocks both within the Dow and outside it look cheap. When you look at earnings for Travelers and AIG, you'll find that both sport earnings multiples below 10 right now, which, in Travelers' case, puts it among the cheapest stocks in the Dow Jones Industrials. Yet, in both cases, investors expect that 2014 earnings will actually drop from year-ago levels, as most shareholders reasonably assume that a reversion to typical loss experience will put a more typical hit on profits than either AIG or Travelers has seen in the past couple of years.
Another issue that Travelers and AIG have to face is what impact the bond market's direction might have on their financial condition. Insurance companies typically carry substantial amounts of bonds on their balance sheets and, a year ago, the sudden plunge in the bond market actually sent Travelers to take a hit of about $1.77 billion in lost unrealized gains on its bond portfolio. Lately, interest rates have been moving downward, which has bolstered the value of any bonds that Travelers and AIG own. Nevertheless, with most expecting further rate rises as the Federal Reserve withdraws from its stimulus programs, Travelers and AIG could see future pressure if interest rates do increase.
Travelers has done a good job of contributing to the rise in the Dow Jones Industrials lately. But as hurricane season begins anew, investors need to be careful before they assume that 2014 will be as kind to Travelers and AIG as past years have been.
